12 MONTHS ON

WARNINGS VS REALITY

RESEARCH

Real Estate
for a changing
world
 WARNINGS VS REALITY
12 MONTHS ON | WARNINGS VS REALITY

FROM THE EU REFERENDUM

On the 23rd June 2016 the UK took the momentous decision to leave
the European Union. The lead up to and following the vote saw many
warnings surface about how the UK would fair. We take a look at 12 key
warnings and 12 months on, we see if they have or are indeed close to
becoming reality?

Political uncertainty Stock market crash UK tech talent to be lured Office demand to slow
to other European cities
Prolonged period of Traders to dump UK Increased uncertainty will
political uncertainty... equities... result in occupiers delaying
If freedom of movement is lost, making real estate decisions...
this will negatively impact the
UK’s Media Tech sector...

L REALIT
Y ALITY ALITY L REALIT
Y
PARTIA NOT RE NOT RE PARTIA

Sterling in a free-fall Interest rates to turn negative Banking exodus? Investors to look to ‘safer’ markets
Investors to sell sterling-
denominated assets...
Huge negative shock to the UK economy... Banks moving operations to
mainland Europe...
to deploy cash
The UK will loose its ‘safe haven’ status...

ALITY ALITY ALITY ALI TY

NOT RE NOT RE NOT RE NOT RE

DIY UK recession Inflation to exceed Bank of England target Capital values to fall considerably Tenant space to flood
the market
Country on the brink of a Depreciation will lead to higher inflation... With yield compression and rental growth
recession... already slowing, significant further declines
expected... Increased amounts of
second-hand tenant space
will enter supply...

TY TY Y
ALI Y ALI L REALIT
NOT RE REALIT NOT RE PARTIA

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ECONOMIC
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: Stock market crash

Reality: Market turmoil contained

Traders to dump UK equities in panic reacting to the prospect of recession amid months of market turmoil.

purposes; the weaker the pound, the bigger the

relative boost those companies get from those
It wasn’t a surprise to see the FTSE 100 lurching into
foreign earnings which in effect is the reason the
the red after the Brexit vote. After the initial post-
FTSE 100’s slide was stopped in its track.
Brexit sell-off in equities, financial markets were
quick to quieten down.
A much better gauge of the UK economy is the FTSE
250, which includes smaller and more domestic-
The fall in sterling helped the FTSE post its best week
focused companies, which rely on a strong and
since December 2011, making gains of 7%. Having
confident UK economy. Since the vote the FTSE 250
plunged 8.7% in the immediate Brexit aftermath the
has almost erased the post-Brexit decline.
FTSE 100 recorded its best weekly performance in its
33 year history, the week ending July 1 is now ranked
UK market turmoil was contained somewhat by a
as the tenth best on record.
pledge from the Bank of England that it would take
any measures needed to stabilise markets and the
Although the focus was on the FTSE 100, it is not
economy. The Bank of England (BoE) responded
a great indicator of Brexit on the UK economy.
with a four-part package of easing measures, which
Collectively the companies in the FTSE 100 make
included a 25bp rate reduction. The FTSE 100 and
around three-quarters of their money outside the UK.
250 have even moved ahead of its pre-Brexit level as
confidence recovered from the initial shock.
Those revenues are earned in foreign currencies,
which are converted back into sterling for reporting

Source: Macrobond

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ECONOMIC
WARNING VS REALITY
Warning: Political uncertainty
Prime Minister David Cameron to step down
if the UK voted to leave the European Union,
opening up a nine-week Conservative leadership
contest, destabilising the country at a critical
Reality: Uncertainty remains
time.
David Cameron announced he was quitting as Prime
Minister just hours after the outcome of the vote was
known, losing his big Brexit gamble. His campaign to
keep Britain in the EU failed, propelling the leavers to
a shock 52-48 victory.
David Cameron’s decision to stand down fired the
starting gun on a Conservative leadership contest.
Conservative MPs were quick to shortlist two
candidates, Theresa May and Andrea Leadsom.
Andrea Leadsom did however pull out of the race
saying it is in the “best interests of the country”,
paving the way for Theresa May to become Prime
Minister. Less than three weeks after David
Cameron’s resignation Theresa May was appointed as
the new leader of the Conservative party and Prime
Minister, limiting political risk.
As soon as Theresa May took office, further rumours be-
gan to surface about a snap election. Although she was
quick to dismiss this, a snap election was announced in
April. The election resulted in a hung parliament, with
Theresa May losing her majority. Currently political un-
certainty remains rife as the Conservative Party negoti-
ates to put a government together.
12 MONTHS ON | WARNINGS VS REALITY
Warning: Sterling in a free-fall
Investors to sell sterling-denominated
assets by taking out contracts that allow
them to dump the pound leading to an
immediate fall in the value of sterling if
Reality: Sterling stabilises
the UK votes to leave the EU.
The value of sterling slumped to a 31-year low on
currency markets and was on course for its biggest
one-day loss in history as panicking investors came
to terms with the outcome of the EU referendum.
This left the pound down more than 10% at $1.33,
compared with $1.50 just after polling stations
closed. That was the lowest since 1985. The pound
was down more than 7% against the euro.
The pound has since fluctuated between losses and
slim gains against a slew of currencies. Currently there
is no market consensus on the outlook for sterling post
Brexit vote. The most common prediction is that sterling
volatility is far from over, especially as various Brexit
scenarios are explored.
Source: Macrobond
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ECONOMIC
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: DIY UK recession
Pre-Referendum, many analysts predicted that Britain’s decision to leave the EU
will leave the country on the brink of a recession that will reverberate around
the world; this was based on fears of a drop in investment and turmoil on
global markets. George Osborne (at the time UK Chancellor) issued a
pre-referendum warning of a year-long “DIY recession”. The Treasury’s best
case scenario where the UK seeks membership of the European Economic Area
(EEA), like Norway, estimated that UK GDP will be 3.8% lower after 15 years;
the worst alternative would see UK economy 7.5% lower.

Reality: UK growth
Source: Oxford Economics/HM Treasury

Although this might

Despite the shock Brexit vote,
activity data for the UK has been
better than expected. Two months
after the vote, the initial shock to
business and consumer confidence
almost disappeared. It was largely
expected that the uncertainty
would feed through to the real
economy through a fall in business
investment and hiring. However,
business investment actually rose
in the quarter following the Brexit
vote.
be explained away
as existing planned
spending in the pipeline
long before the vote,
we have actually had
a fair bit of good news
on investment. Google,
Facebook and Apple
all announced their
commitments to the UK post Brexit vote. Not only that, the Q4 GDP
figure came in at 0.7%, bringing annual growth for 2016 at 1.8% - similar
to what Germany posted and ahead of France which grew by 1.1%.

Warning: Inflation to exceed Bank of England target

The effects of exchange rate depreciation will lead to higher inflation, with
inflation likely to exceed the Bank of England target.

Reality: Inflation exceeds target

The UK’s inflation rate is currently at its highest since September 2013. Inflation now stands at 2.7% - up from 2.3%
in March - and above the Bank of England’s 2% target. These increases can all be linked to the cost of importing
goods into the UK as a direct result of the fall in the value of sterling since the referendum. The Bank of England has
warned that inflation as measured by the Consumer Prices Index (CPI) would peak at just below 3% this year.

While the fall in sterling will clearly boost inflation, it will also help support the rebalancing of the UK
economy towards the external sector. Furthermore, the sterling devaluation has made London more
attractive than ever - presenting a buying opportunity for international investors willing to step into the market.

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ECONOMIC
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: Interest rates to turn negative
The vote to leave the EU will result in a huge negative shock to the UK economy. The Bank of England could
try to offset the effect of higher risk premia by reducing the Bank Rate to 0 or even lower -

Reality: 25bp rate reduction

at least in the short-term.

The expectation of lower rates rates are passed on to businesses

marks a sharp turnaround from
the mood in the months before
the EU referendum when the focus
was on trying to predict when
the Bank’s key rate, at 0.5% since
2009, would rise rather than fall.
The markets had expected no rate
increase until at least 2018 for
much of the first half of this year.
Now markets do not expect rates
to even return to 0.5%, after the
expected cuts, until the summer
of 2020. The Brexit verdict has
dealt a shock to the system. It
has increased the need for Bank
of England to keep supporting the
economy with low rates.
After the referendum the Bank
of England were swift in taking
steps to boost the economy and
reassure markets.
and households; GBP60bn of
additional gilt purchases to
be conducted over six months;
and GBP10bn of corporate bond
purchases to be conducted over
18 months.
Mark Carney the Governor of the
Bank of England has ruled out
negative interest rates, saying
it has other options to provide
economic stimulus. Ten months
on and the interest rate remains
unchanged at 0.25% since the
last cut. Looking ahead rates are
expected to remain on hold, with
one increase being delivered in
2018, and two expected in 2019.

The Bank of England (BoE)

responded with a four-part
package of easing measures, which
included a 25bp rate reduction
from 0.5% to 0.25% in August
taking UK rates to a new record
low; a Term Funding Scheme (TFS)
with up to GBP100bn available
that aims to ensure lower policy

Source: Macrobond

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REAL ESTATE
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: Banking exodus?
Headlines and news flow centred on London’s financial services industry and Banks moving
operations to mainland Europe; this was based on the potential loss of ‘passporting’, the
ability for UK based financial service firms to operate across the European Economic Area
and vice versa. However, has this reliance on ‘passporting’ been overplayed?.

Reality: Contingency plans

Depending on who you talk to,
as few as 4,000 or as many as
232,000 UK jobs will be heading
to Europe after the UK withdraws
from the European Union! As
further details of the banks’
contingency plans emerge it is
clear job relocations are said to
be more in the hundreds than the
thousands. Indeed, originally JP
Morgan job relocations totalled
4,000, however it now looks closer
Further reassurance for London’s
strength as a financial centre
came with Goldman Sachs
pressing ahead with developing its
new 800,000 sq ft headquarters in
the City of London. Deutsche Bank
has also agreed terms to pre-let a
new 500,000 sq ft headquarters at
21 Moorfields.
With the focus on ‘passporting’
a key argument for remainers,
Overall, UK Banks are keen to
regain the status quo, not only
because of the cost benefits but
because of the intricate financial
services eco system in the City
which will be hard to replicate
anywhere else.
Indeed, Central London has
retained its title as the world’s
top financial centre in the Z Yen
Global Financial Centres Index.

to 500-1,000.
The truth is no one knows exactly
how many jobs will leave the City
of London and what a potential
Brexit deal will look like. For now,
banks are trying to keep their
options as open as possible as
they try to gauge the scale of their
future activities in London.
#1 #2 #3
was this in fact overplayed? In
theory, according to MIFID II,
the UK should easily meet the
equivalence requirements and is
highly likely that the UK will do
everything necessary to ensure
that an equivalence decision is
obtained; meaning very little London New York Singapore
Source: Z Yen Global Financial Index, 2017 Ranking
change to the status quo from a
regulatory perspective.

CENTRAL LONDON TAKE-UP BY SECTOR (AS A % OF TOTAL)

But there will not be an exodus of Whatever deal is agreed for
35%
City of London jobs to the EU after the UK, a point to stress is how Banking & Finance Media Tech
30%
Brexit. Central London has increasingly 25%

become less reliant on Banking 20%

The Bank of England’s deputy & Finance to drive demand. As a 15%

10%
governor was the first to dismiss percentage of total take-up over
5%
fears of a mass exodus of City jobs a 10-year period, the Banking 0%
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
after Brexit - insisting the EU does & Finance sector’s share has
Source: BNP Paribas RE Research

not have the same capacity as diminished, see graph opposite.

London.

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REAL ESTATE
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: UK tech talent to be lured to other European cities
As an international City, London’s workforce hails from all over the world including the
EU, particularly within the Tech sector. The potential loss of freedom of movement could
have a negative impact when attracting the best and brightest talent. Berlin and Dublin

Reality: UK remains top tech hub

were primed to be big winners.

The weeks after the Brexit vote were defined by Media
Tech giants expressing their commitment and confidence
in the capital. Google and Facebook both committed to
increasing their headcount in Central London and Apple
Growth in this sector is expected to grow by 7.5% over
the next six years in comparison to the Finance & Insur-
ance sector which will experience a fall in headcount.
EMPLOYMENT GROWTH - NEXT SIX YEARS

7.5%
signed a 500,000 sq ft pre-let for their European HQ in
Battersea.

Major Media Tech occupiers are also looking outside of

MEDIA TECH
London, notable examples of this include Co-op Digital
who acquired 45,000 sq ft in Manchester, Cirrus Logic’s

-1.5%
45,000 sq ft letting in Edinburgh and Nokia who took
35,000 sq ft in Reading.

FINANCE AND BANKING

According to a survey conducted by Silicon Valley Bank,
Source: Oxford Economics
the majority of start-ups (62%) intend to keep their
headquarters in the UK, despite the Brexit risk.
Furthermore, funding for Tech start-ups in the UK shows
This is positive news for the capital as it is smaller
no sign of abating. According to the latest Tech Nation
to medium sized businesses that drive office demand
report, UK digital tech investment reached £6.8bn with
making up 64% of all deals done over the last 10 years.
London attracting £2.2bn of this, around £1bn more than
Furthermore, the survey found that 89% of UK start-ups
Amsterdam and Paris.
intend to hire more staff this year.

UK DIGITAL TECH INVESTMENT VS EUROPE (2016)

£6.8bn UK
£2.4bn FRANCE
£1.4bn GERMANY
£1.3bn NETHERLANDS
£0.9bn DENMARK
£0.8bn ITALY
£0.8bn SPAIN
Source: Tech City UK 2016

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REAL ESTATE
WARNING VS REALITY
Warning: Office demand to slow
Occupiers to delay making real estate decisions
Reality: Down in London
due to increased uncertainty.
Up in Regions
According to Deloitte’s CFO survey, in the wake of the
EU referendum vote levels of optimism amongst Chief
Financial Officers dropped to levels not seen since
2007. Since then, positive sentiment has started to
increase with business optimism hitting an 18-month
high in Q1 2017. Furthermore, the proportion of CFO’s
looking to decrease hiring plans has halved from 66%
in Q2 2016 to 30% in Q1 2017.
Even before an EU referendum was announced, 2016
was forecast to be the year in which demand levels
slowed, especially after three consecutive years
of above average levels of demand. Take-up in the
capital reached 11.4m sq ft, 11% down on the 10 year
average. Conversely, in the Big Six regional cities,
take-up reached 4.6m sq ft last year, 15% ahead of
the 10 year average.
12 MONTHS ON | WARNINGS VS REALITY
Warning: Capital values to fall
considerably
The investment market was
experiencing a slowdown prior
to the EU Referendum, with both
yield compression and rental
growth slowing, however many
observers felt there would be a further slowdown if
the UK voted to leave.
Reality: Not to extent expected
The shock of the vote indeed hampered capital value
growth prospects, although not to the scale being fore-
cast. The immediate aftermath saw capital values take a
knock of -3.3% in July, with City offices the worst hit with
-6.1% declines.
Since then the rate of capital value declines slowed
across all sectors and the last seven MSCI Monthly Indi-
cess, from October 2016 to April 2017, have all recorded
positive capital growth at the ‘All Property’ level, sug-
gesting the worst is behind us and the market has now
stabilised. It is worth noting that in the last cycle, MSCI
saw 25 months of consecutive capital declines at the ‘All
Property’ level.
With investors already moving to an income focussed
strategy in preparation for the bottom of this cycle, these
declines did not come as a big shock. Having learnt les-
sons from the past, in particular, the Global Financial
Crises, the industry is now better prepared for shocks
and so expects current and future cycles to be shorter
and less volatile, as our Cycology report published earlier
this year explores.
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REAL ESTATE
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: Investors look to ‘safer’ markets to deploy cash
Perhaps one of the most repeated slogans of the leave campaign was to ‘take back
control’. Did this deter the flow of capital from overseas targeting UK Real Estate and
direct it to other markets?

Reality: UK remains a ‘safe haven’

The depreciation of sterling acted as
further incentive for overseas inves-
tors to continue to deploy capital in
UK Real Estate, in
particular Central London.
Overseas investors have deployed
£9.2bn in the quarters following the
EU referendum and in Q1 2017
accounted for 79% of total
investment volumes in the capital.
Overwhelmingly, non-domestic
investors have targeted core
buildings due to the relative low risk
associated with such assets.
Commentators have argued that the
UK has become more risky, however
in the eyes of overseas investors
the UK’s safe haven status will very
much remain post Brexit, given the
solid fundamentals; its simple and
efficient legal system,
business friendly time-zone, the
English language and world class
transport infrastructure and
education systems.
In contrast to overseas investors, UK
institutions have become net sellers,
with UK retail funds continuing to
be relatively cautious following the
swathe of redemptions following the
vote. Withdrawals have stabilised
and most UK retail funds have seen
net inflows in Q1 2017.
The core reasons to invest in UK real
estate remain strong, given the low
return and growth environment.
According to the latest INREV
investor survey the UK, along with
France are top on investors most
preferred locations list, knocking
Germany off its top spot last year.

CENTRAL LONDON INVESTMENT VOLUMES BY ORIGIN

Source: BNP Paribas RE Research

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REAL ESTATE
12 MONTHS ON | WARNINGS VS REALITY

WARNING VS REALITY
Warning: Tenant space to flood the market
Due to increased levels of uncertainty, rationalisation of office needs by occupiers would
result in increased amounts of second-hand tenant space returned to the market.

Reality: Moderate tenant space rises

The amount of space in Central
London available directly from an
existing tenant doubled over the
course of 2016 to reach 2.1m sq ft
representing 17% of total
supply. In Q1 2017 it rose to 2.8m
sq ft equating to 21% of total supply.
The majority of this is driven by the
Banking & Financial sector.
capital to reduce already rising total CENTRAL LONDON TENANT SPACE
occupational costs, consolidating
premises in order to bring people
under one roof and the introduction
of agile working meaning staff hot
desk or work from home more often.
The increased uncertainty brought
around by Brexit has almost kick Source: BNP Paribas RE Research

started some of these processes

To what extent is this rise Brexit
related? Pressure on businesses to
cost save and increase efficiency
have been on the agenda for some
time now. Recent trends include
occupiers looking outside of the
Having learnt lessons from the
which has led to occupiers
Global Financial crises occupiers
off-loading additional space.
have been careful not to acquire too
much space and therefore we do not
Tenant space will continue to enter
envisage the same level of ten-
supply this year due to M&A
ant returns as witnessed in 2008/9
activity and relocations.
where levels reached around 35%.

CONTACTS
Simon Williams
Head of Investment
simon.d.williams@bnpparibas.com
+44 (0)20 7338 4151

Simon Durkin
Head of Research
simon.durkin@bnpparibas.com
+44 (0)20 7338 4020

Sukhdeep Dhillon
Senior Economist
sukhdeep.dhillon@bnpparibas.com
+44 (0)20 7338 4834

Kuldeep Gadhary
Associate Director Research
kuldeep.gadhary@bnpparibas.com
+44 (0)20 7338 4844

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